1. Debt Overhang Problem If a company has risky debt outstanding, the cash infusion associated with an equity offer increases the collateral backing the debt, making it less risky What effect does this have on the existing shareholders?

2. Example with a $200 million equity issue Pre-issue enterprise value of $1 billion Face value of debt of $900 million Market value of debt of $600 million 100 million shares outstanding at $4 per share After equity issue, risky debt increases to market value of $750 million What is the post-issue enterprise value?

3. How many shares have to be issued to raise $100 m? $1,200 m enterprise value - $750 million MV debt = $450 m post-issue equity value $450 million = price/share×(100 m old shares + new shares) $200 million = price/share×new shares Solve for price/share

4. New shares = $200 m ÷ price/share $450 MV of equity = (100 + 200/price) × price/share 450 = 200 + 100 × price/share Price/share = $2.50 New shares to be issued to raise $200 million is 80 million

5. Seasoned Equity Offerings (Follow-on Offerings)

6. Rights offers A rights offer involves offering shares to existing shareholders at a fixed exercise price These are rare in the U.S.

7. Equity Capital Raised by US and European Financials in 2008 UBS$15.3 billion rights offer AIG$13.4 billion SEO ($7.5 fully marketed common but only 4 days) ($5.9 billion convertible) Washington Mutual $7.2 billion private equity by TPG Societe Generale $8.5 billion rights offer Citigroup $4.9 billion accelerated bookbuild Citigroup$12.5 billion convertible sovereign funds Citigroup $3.2 billion convertible JP Morgan Chase$11.5 billion accelerated bookbuild

8. Follow-on Offers Frequently occur after a large stock-price runup On average, the stock has gone up 70% in the year prior to the announcement, although there is wide variation around this number

9. New Development Accelerated seasoned equity offerings (SEOs), including bought deals and accelerated bookbuilt offers, have become more common throughout the world during the last decade (Bortolotti, Megginson, and Smart, Summer 2008 Journal of Applied Corporate Finance) September, 2008

10. Two Types of Accelerated SEOs Bought deals The issuing firm (or the selling shareholder) announces the amount of stock it wishes to sell and invites investment banks to bid. The investment bank that offers the highest net price wins the right to buy the shares. The winning bank then re-sells the shares immediately. Accelerated bookbuilt offers The investment bank that wins the right to underwrite the offer builds an order book and sets the final offer price very rapidly, usually within 48 hours. September, 2008

11. What is Special about Accelerated SEOs? The most important differences between an accelerated SEO and a fully marketed SEO are the amount of marketing and the speed to market Similar to an IPO, in a fully marketed SEO, the lead underwriter conducts a road show after the registration There is NO road show conducted for bought deals and accelerated bookbuilt offers, which implies little marketing effort Shares in accelerated SEOs are generally allocated exclusively to institutional investors September, 2008

12. The Fully Marketed SEO Process (Figure 1) September, 2008 Select book-runner and co-managers Registration Marketing, road show, and book-building Issue final prospectus, pricing, and allocation Announcement of the filing Trade begins 2 – 3 weeks Prepare preliminary prospectus

13. The Bought Deal Process (Figure 1) September, 2008 Investment banks submit bids after the close of trading Bank that offers the highest net price wins Re-sell the shares Announcement of the filing Trade begins Usually overnight Registration

14. The Accelerated Bookbuilt SEO Process (Figure 1) September, 2008 Select the book-runner Accelerated bookbuilding Pricing and allocation Announcement of the filing Trade begins Usually 1-2 days Registration

15. Demand Curve without Marketing September, 2008 Supply Demand Price Quantity

16. Marketing Effects Marketing flattens the demand curve Marketing changes current shareholders’ beliefs Marketing increases the number of investors paying attention to the stock

17. Demand Curve with Marketing September, 2008 Price Supply Demand With Marketing Without Marketing Quantity

18. Model Predictions The fully marketed offer method is preferred to the accelerated offer method if: The ex ante demand curve of the issuing firm’s stock is relatively inelastic The offer size is large September, 2008

19. Asymmetric Information Theory September, 2008 Supply Demand Signal of Overvaluation Quantity Price

20. Announcement Returns Announcement returns incorporate anticipated price pressure effects Otherwise an arbitrage opportunity exists

21. What We Observe on the Announcement Day Supply Information and Price Pressure Demand Quantity Price

22. Number of SEOs by Year and Offering Method Sample SEOs Bought Deals Accelerated Bookbuilt SEOs Fully Marketed SEOs YearNumber Total Proceeds ($ billion) Number Total Proceeds ($ billion) Number Total Proceeds ($ billion) Number Total Proceeds ($ billion) 199640043.3810.0600.0039943.32 199735932.3020.4581.4034930.45 199825024.5281.4020.0324023.05 199929832.03192.5120.3227729.20 200031149.16272.9420.0728246.15 200123232.18356.34171.4718024.38 200222337.86255.484110.3615722.02 200325428.25366.09425.1517616.88 200428328.06354.51516.5819716.90 200521921.95323.91293.1715814.87 200623619.37433.73366.5815711.88 200721120.91 271.99 463.17 13814.52

23. Offer Characteristics (Means) All SEOs Bought Deals Accelerated Bookbuilt SEOs Fully Marketed SEOs Normalized Market Capitalization ($M) 1,1832,7952,718855 Normalized Proceeds ($M) 176220208168 Relative Offer Size (%) 22.539.2611.3725.09 Number of Days from Filing to Offer 260131

25. Average Gross Spreads Conditional on Offer Mechanism All SEOsBought Deals Accelerated Bookbuilt SEOs Fully Marketed SEOs Gross Spread (%) 4.822.284.235.10

26. Average Announcement Effect and Underpricing All SEOsBought Deals Accelerated Bookbuilt SEOs Fully Marketed SEOs Announcement Effect (%) -1.72-1.49-2.55-1.66 Underpricing (%) 3.111.092.103.43